HIGH-FREQUENCY traders could soon be held directly responsible for out of control algorithms and manipulative trading strategies, with the federal government considering reforms to the licensing regime under which they operate in Australia.

The recommendation is part of a regulatory push by the federal government to protect the integrity of the securities market as concerns grow about high-frequency traders and off-market exchanges.

The government has asked federal Treasury to consider whether high-frequency traders (HFTs) ought to be subject to the same market integrity rules that govern other market participants.

Advertisement

At the moment, some HFTs are run by ''non-market participants'', some of which are based overseas. These are not required to hold an Australian financial services licence.

That means that if these non-market participant HFTs manipulate the stockmarket, or fail to maintain control of their algorithms, the Australian Securities and Investments Commission cannot penalise them directly. ASIC can only penalise the market participant that provided them access to the market.

''There is an argument that changes to the regulatory framework should be made so that the HF traders themselves bear the regulatory burden directly, and provide some improved protection to market participants that are providing market access for HF traders,'' the paper said.

''This would improve the effectiveness of market integrity rules relating to HFT activity, and would more fairly share the compliance load.''

The paper forms part of a broader review of the framework for financial market licensing in Australia, which was designed in 2001.

It comes after ASIC last month announced new market integrity rules for high-speed traders and dark pools in a bid to resolve concerns about changes in the structure of the local equity market.

''The framework for financial market licensing in Australia … was designed in 2001 with public exchanges in mind, and did not anticipate the extent of financial market evolution that has occurred since,'' the paper says.

''As a result, the system has not kept up with changing regulatory needs.''

The paper says that, although both dark pools and HFT activity benefit the market, there are also some potential drawbacks that have lead to a review of the regulatory approach.

''These include the risk of excessive market volatility and potentially increased scope for market manipulation from HFT activity, and the potential loss of investor protection and lit market price discovery from dark pool trading,'' the paper said.

The Australian Securities Exchange has welcomed the review of the licensing regime governing both dark pools and high-frequency traders.

''ASX believes that all trading venues should be licensed and subject to ASIC's direct regulatory oversight. The rules that apply to trade execution and their commercial terms should be transparent and fully disclosed to investors.''